a study on timeliness of income recognition for shariah...
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Abstract—This paper aims to discover the timeliness of
income recognition in Malaysian’s Shariah compliant
companies. In Islamic teachings, weight and measurement play
a significant principle in business transactions which have
repeatedly emphasized by the Prophet S.A.W. Riba’ or interest
is forbidden in the Quran. Sunnah should be followed.
Nevertheless, post-modern business world embraces
International Financial Reporting Standards (IRFS) for
reporting for which in contrary is insufficient to cover certain
elements of Islamic practice. Hence, Shariah compliant
companies are torn in between pursuing religion obligations
and being internationally acceptance for compliance and
reporting. This research has collected evidence from 712
companies listed in Bursa Malaysia under Shariah law, a decree
that is enshrined in the Quran. We employed multiple
regression method to test the samples. Malaysian capital
market is chosen as our research contender due to its position as
the most important Islamic finance center. In effect, even
though the main driver for reporting financial statements are
IFRS, we found that income recognition in these companies is
not significant, an important virtue that is weighty in Shariah
companies. There were few studies on Islamic financial
institutions that cover different angles of income recognition for
other countries. This study focus on the same scenario, yet
supplemented with a study on income recognition in Shariah
compliant companies in Malaysian capital market.
Index Terms—Shariah compliant, timeliness of income
recognition
I. INTRODUCTION
The Prophet S.A.W has emphasized on honesty and kind
dealings with customers. He said “The Truthful and honest
merchant is associated with the Prophets, the upright and the
martyrs” (Reported by Al-Tirmidhi). On other view, the
Prophet also stated that “God shows mercy to a person who is
kindly when he sells, when he buys and when he makes a
claim” (Reported by Al-Bukhari). In fact, Prophet
commanded those who made the measurements to be fair for
they were entrusted to perform the affairs or otherwise expect
severe consequences in the Hereafter (Reported by
Al-Tirmidhi). In post-modern business world, International
Financial Reporting Standards (IRFS) is adopted
internationally for public listed companies for reporting
purposes. Pedestal on the same standards, business
performances are comparable and consistent. In contrary, the
IFRS is insufficient to cover certain elements of Islamic
practice [1].
Manuscript received December 14, 2012; revised February 14, 2013.
The authors are with the Universiti Teknologi MARA, Johor, Malaysia
(e-mail: rosma741@johor.uitm.edu.my, sitima067@johor.uitm.edu.my,
henny030@johor.uitm.edu.my).
Naturally, income recognition covers the basic principles
that determine the timing of revenue, expense, profit or loss.
The recognition can be made either with cash basis or accrual
basis. The concepts of accrual and cash basis accounting,
which we will explain herein, have pragmatic impact in
Islamic teaching. Hence, based on that premises, we concur
to discover on their timeliness to recognize income while
juggling in between pursuing religion obligations and being
internationally acceptance for compliance and reporting.
The result from this study can clearly illustrate the position
of Malaysia as the most important Islamic finance center
("Banking on the Ummah," 2013) that perhaps could
influence future investors who have concern on where should
they place their investment. In addition, this study also
contributes to the literature by examining the timeliness of
Shariah compliant companies in Malaysian capital market.
II. TIMELINES OF INCOME RECOGNITION
Revenue recognition has been one of the most important
issues confronting standard setters and accountants [2]. One
of the critical issues with respect to revenue recognition is
timing, i.e., the appropriate point in the sales cycle when
revenue should be recognized. According to Basu [3],
timeliness is defined as the extent to which current period
accounting income is incorporate with current period
economic income. Conservatism is conceivably can be
interpreted as a way to identify current accounting income
asymmetrically, nonetheless more to report economic losses
rather than gain [3]. His claimed is evidenced by a study
conducted by other researcher [4] who found that earnings is
less elevated by good news. On the other hand, bad news are
briskly affected the earnings. The reasons, as emphasized
earlier by Basu [4], might due to the persistence in
recognition of good news in earnings as compared to the
conservative reporting of bad news.
Timeliness of earnings is an imperative element in
determining the practicality of information. FASB states that
“timeliness alone does not govern relevance of information,
but absence of timeliness can rob information of relevance it
might have had” (FASB 1980). Timeliness is of great
importance because financial information users (e.g.,
investors, analysts, creditors, and others) need information
that is relevant and useful to make economic decisions, and
the disclosure of information should be timely as possible, in
order not to lose the capacity to influence decision making
(FASB 1980).
Thus, changes in earnings will lag the changes in stock
return and current period stock returns will have relation with
the future period earnings. This concept is referred to as lack
of timeliness [5]
A Study on Timeliness of Income Recognition for Shariah
Compliant Companies: A Malaysian Evidence
Rosmawati Haron, Siti Masnah Saringat, and Henny Hazliza Mohd Tahir
International Journal of Social Science and Humanity, Vol. 3, No. 2, March 2013
144DOI: 10.7763/IJSSH.2013.V3.214
III. THE CONCEPT OF CASH AND ACCRUAL BASIS
ACCOUNTING
Cash basis accounting is a very simple form of accounting.
Revenue is recorded when a payment is received for sale of
goods or services as of that date, regardless when the sales
are made. Similarly, expenses are recognized when the
written cheques are cleared, again, no matter when the
expenses are incurred.
On the other hand, accrual basis accounting records
financial transactions based on the event rather than financial
activity. This method allows the matches of revenues when
they are earned, with the expenses to the period when they
are incurred. While it is more complex than cash basis
accounting, it provides more meaningful financial
information about the business. In other words, revenues are
allowed to be recognized even though the actual payment is
yet to be received.
IV. INCOME RECOGNITION FROM ISLAMIC PERSPECTIVES
Islam should be viewed as a norm of life for its teachings
do not contradict by the way the economic system is
organized [6]. This motion is principally to support Siddiqi [5]
arguments who emphasized that human welfare can be
achieved without contradiction with this worldly life and the
Hereafter. As such, Siddiqi added that any ethical values and
economic decisions must be morally directed, including
financial reporting on economic activities. Profit making
should be intended as a means for business entities to
function in the economy. In worldly view, trading and
manufacturing of goods and services are operated in return
for profit so that they can operate and grow [7]
In Islamic teachings, weight and measurement play a
significant principle in business transactions which have
repeatedly emphasized by the Prophet S.A.W. Riba’ or
interest is forbidden in the Quran. Sunnah should be followed.
Islamic finance is governed by the Shariah, a decree stated in
the Quran, which prohibits interest and speculation. The
stipulated income must be derived as profits from shared
business risk rather than guaranteed return to avoid the
elements of unfairness and exploitation . Despite of these
religious constraints, Jobst [8] added that transactions in
Shariah compliant companies do not diverge to the great
extent from the conventional method for the system
customarily involves interest-bearing debt and prediction of
future income. Therefore, one of the ways to legalize lending
transactions under Islamic law, asset – backed securitization
is used to moderate the risk-return [6].
While post-modern business principles may evolve
according to the business needs, there are three major Islamic
principles that are mentioned in the Quran which relates to
financial dealings and transactions namely, realization of
fairness and justice, preservation of the rights and dues of all
parties, and paying zakat when it is due.
The first two Islamic principles are emphasized by the
Holy Quran. As indicated in Al-Baqarah, verse 282, Muslims
are required to write down faithfully and precisely financial
transactions involving debts or future obligations. “O you
who believe! When you deal with each other, in transactions
involving future obligations in a fixed period of time, reduce
them to writing” and “Let a scribe write down faithfully as
between the parties” (QS2:282)
Hence, based on the above verses, transactions between
human beings must be fair and just. Therefore, accounting
information is expected to fill the needs of those who
required the information for the preparation of financial
statements is not only accountable to business owners or
shareholders, but also to fulfill the ultimate accountability to
Allah [8]. Into the bargain, having accurate and just
recording is essential in order to allow the followers to
determine the amount of Zakat.
V. THE METHODOLOGY AND HYPOTHESIS DEVELOPMENT
To satisfy our research objective, we have adopted an
equation introduced by Basu [4]:
, 1 2 , 3 4 , .i t i t i tEY R D R D e
where
EYt = Earnings yield measured by EPSt / Pt-1
Rt = Return measured by (Pt – Pt-1)/ Pt-1
D = Dummy variable, which takes a value of 1
if Rt is negative
RtD = Incremental responsiveness of earnings to
negative return
e = Error term
While β2 remains as the coefficient that determines the
timeliness, we have hypothezed that the augmentation
sensitivity of market return if β2 = 1, the companies
recognized their revenues timely while β2 = 0 indicates not.
Based on Islamic law, we hypothesized that our sample
should not reveal timeliness in income recognition. We
tested our hypothesis with a sample of 712 Shariah compliant
companies in Malaysian capital market over the period of
2006 – 2011. We trimmed down the samples to 579
companies, due to the unavailability of data, leading to 3,474
firm-years observation.
VI. THE FINDINGS AND DISCUSSIONS
Based pooled sample on Table I, we found that the slope
coefficient β2 from regression is negative (β2 < 1) and not
significant at any level of significance. Therefore it can be
concluded that Shariah compliant companies in Malaysia do
not practice timeliness in income recognition. The result is
inconsistent with findings other researchers [9]. The sample
is divided into two by introducing dummy variables to
indicate whether the change in return is positive or negative.
The incremental response of earnings to negative return
relative to positive return as measured by β4 is positive but not
significant at any level of significance. It shows that
asymmetric timeliness seems not to be important feature of
financial reporting for Shariah compliant companies in
Malaysia. Other research [9] reported the same findings for
sample from France, Norway, Sweden and Switzerland. The
model R2 is only 0.1%, which indicates that the explanatory
International Journal of Social Science and Humanity, Vol. 3, No. 2, March 2013
145
power of the model does not really account for variation in
the earnings.
TABLE I: REGRESSION RESULT OF TIMELINESS IN INCOME RECOGNITION
Year Firm-years β1 β2Ri,t β3D β4Ri,tD R2
Pooled
sample 3,474 -0.089 -0.192
0.11
2 2.164
0.00
1
Note: The table indicates significance at 1% (***), 5% (**) and 10% (*)
levels of confidence
VII. CONCLUSIONS
Cash basis of accounting maybe the most appropriate
method to recognize revenue for its reliability to recognize
income is increased because transactions are recorded only
when all phases of transactions are complete, even though an
Islamic teaching does not repudiate the importance of accrual
accounting. The practice of income recognition for Shariah
compliant companies in our samples is nevertheless, does not
contradict with Islamic teachings and values, a result that
might alleviate the investors of Shariah compliant companies.
Perhaps, with these findings, Shariah compliant for business
dealings might become a social responsible to address needs
of investors’ cultures and beliefs.
ACKNOWLEDGEMENT
A thank you to the management of Accounting, Business
and Economy Research Center (ABERC) of Universiti
Teknologi MARA, JOHOR and Accounting Reserch
Institute (ARI) and Research Management Institute (RMI)
for their belief and continuous support.
REFERENCES
[1] R. Ball, A. Robin, and J. S. Wu, “Incentive Versus Standards:
Properties of Accounting Income in for East Asian Countries,” Journal
of Accounting and Economics, vol. 36, pp. 235-270, 2003.
[2] “Banking on the Ummah,” The Economist, January 5, 2013.
[3] S. Basu, “The Conservatism Principle and the Asymmetric Timeliness
of Earnings,” Journal of Accounting and Economics, vol. 24, pp. 3-37,
1997.
[4] S. Maheshwar, A. Krishnamoorthy, W. Berry, and J. Stone, “Lack of
timeliness in Reported Earnings and Fundamental Financial Statement
Analysis,” Journal of Economics and Finance, vol. 4, no. 2, pp. 21-31,
2003.
[5] M. N. Siddiqi, The Economic Enterprise in Islam, 1972.
[6] A. R. A. Rahman, “Accounting Regulatory Issues on Investments in
Islamic Bonds,” International Journal of Islamic Financial Services,
vol. 4, no. 4, 2003.
[7] A. J. Ali, A. A. Aali, and A. A. Owaihan, “Islamic Perspective on Profit
Maximization,” Journal of Business Ethics, 2012.
[8] A. A. Jobst, “The Economics of Islamic Finance and Securitization,”
Journal of Structured Finance, vol. 12, no. 1, 2007.
[9] Y. Zhang, “Revenue Recognition Timing and Attributes of Reported
Revenue: The case of Software Industry's Adoption of SOP 91-1,”
Journal of Accounting and Economics, vol. 39, pp. 535-561, 2005.
[10] I. Raonic, S. McLeay, and I. Asimokopoulos, “The Timeliness of
Income Recognition by European Companies: An Analysis of
Institutional and Market Complexity,” Journal of Business Finance
and Accounting, vol. 31, no. 1-2, 2004.
[11] Y. Ding and H. Stolowy, “Timeliness and Conservatism: Changes Over
Time in the Properties of Accountng Income in France,” Review of
Accounting and Finance, vol. 5, no. 2, pp. 92-107, 2006.
Rosmawati Haron is an accounting lecturer
specialising in Financial Reporting at the Universiti
Teknologi MARA, Johor, Malaysia. Her career as a
lecturer began in 2008 after being exposed in local
automotive industries for 12 years. Rosmawati has
developed an exceptional background in cost
management accounting and cost reduction activities
based on excellent team work and an ability to make the
best possible use of her personal network. Rosmawati
has a Bachelor in Commerce from the University of New England, Australia
and Master in Accounting from the university where she is currently
working. Based on her immense working experience, she was appointed as
the Coordinator for Industrial Training Program for accounting
undergraduate students since 2009. At present, Rosmawati has developed a
keen sense in Financial Criminology and Forensic Accounting in Public
Sector. She is a fellow of the Accounting, Business and Economy Research
Center (ABERC) in Universiti Teknologi MARA, Johor and is an active
member for Accounting Research Insitute (ARI).
Siti Masnah Saringat is an accounting lecturer
specialising in Financial Accounting and Taxation in
the Universiti Teknologi MARA, Johor, Malaysia. Her
career as a lecturer began in 2007 after involved in the
manufacturing and service industries for 10 years. She
has developed an exceptional background in cost
reduction through the development and
implementation of integrated system within the
company. Siti Masnah has a Bachelor in Accounting
from Universiti Utara Malaysia and Master in Accounting from Universiti
Teknologi MARA, Johor, Malaysia. At present, Siti Masnah has developed a
keen interest in corporate social responsibility. She is a fellow of the
Accounting, Business and Economy Research Center (ABERC) in
Universiti Teknologi MARA, Johor.
Henny Hazliza Mohd Tahir is an accounting lecturer
specialising in Auditing and Social Reporting at the
Universiti Teknologi MARA, Johor, Malaysia. Her
career as a lecturer began in 2008 after being exposed
as auditor for 2 years. Henny Hazliza has developed an
exceptional background auditing and assurance
services and due diligence audit based on excellent
team work and an ability to make the best possible use
of her personal network. Henny Hazliza has a Bachelor
in Accountancy and Master in Accountancy from the Universiti Teknologi
Mara. Based on her immense working experience, she was appointed as the
Course Coordinator for accounting undergraduate students since 2011. At
present, Henny Hazliza has developed a keen sense in Islamic Accounting
and green Accountig. She is a fellow of the Accounting, Business and
Economy Research Center (ABERC) in Universiti Teknologi MARA, Johor
and is an active member for Accounting Research Insitute (ARI).
International Journal of Social Science and Humanity, Vol. 3, No. 2, March 2013
146
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